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Saturday, August 18, 2012

Divergence between the performances of private banks and public banks continues

Earnings growth in line: During Q1FY2013, Sharekhan's banking universe reported an earnings growth of 24% year on year (YoY; ex State Bank of India [SBI]), which was in line with our estimate. However, the net interest income (NII) growth slowed to 17.6% YoY (from 22% in Q4FY2012 and 17.1% YoY in Q3FY2012) due to a decline in the net interest margin (NIM) and a slower business growth.

Pressure on margins to continue: The NIM on an average declined by 15 basis points QoQ in Q1FY2013 (Bank of India [BoI] and SBI posted the highest decline) led by a rise in the cost of funds, a decline in the yields and a reversal of interest on slippages. Going ahead, the reduction in the lending rates (in the retail, small and medium enterprises [SME] segments) and the relatively higher deposit rates will continue to put pressure on the margins which will affect the NII growth.

Asset quality weakens though divergence continues (PSBs vs private banks): The slippages rose sharply for the public sector banks (PSBs; especially SBI, Punjab National Bank [PNB] and Union Bank of India [UBI]) leading to a rise in the non-performing assets (NPAs). The restructured assets also expanded across PSBs. However, the private banks largely maintained their asset quality at healthy levels.

Top picks: ICICI Bank, Federal Bank and SBI: The Q1FY2013 results clearly reflect the impact of the worsening macro environment on the performance of banks. The gross domestic product (GDP) growth estimates are being revised downwards while the inflation estimates are being raised (due to a deficit rainfall, high fuel prices) which could increase the challenges for the banking sector in terms of business growth, NIMs and asset quality. This could ultimately affect the earnings growth of the sector. Going ahead, the slippages and restructuring will continue albeit at a lower pace for the PSBs and that is partly reflected in the valuations of banks. The private banks are likely to outperform the PSBs and maintain a decent earnings growth and asset quality. We prefer ICICI Bank (which sustained the improvement in its earnings and asset quality) and Federal Bank (whose valuations are attractive) among the private banks. Among the PSBs we prefer SBI (due to its strong core performance and attractive valuations after the correction in stock price.